Two years ago, I attended several meetings with Chinese investors in Singapore, during which, I noted a general disappointment in the startup projects in Southeast Asia which seemed to be growing especially slow compared to the projects in China. After much discussion, big-name investors concluded: Startup founders in Southeast Asia lack the wolfish qualities that can be found in their Chinese counterparts.

I was then struggling to persuade a rather promising company to receive equity investment when the same thought had flashed across my mind, but I quickly shrugged it off. It takes time for an emerging market to get used to the influx of capital. The first-generation startup founders in Southeast Asia still think like businessmen and have yet to grow into real entrepreneurs. The thing is, you have to adopt a different approach to investing in an emerging market. Most startup founders are marvellously adaptable. Find out why they are so cautious and you’ll be able to better predict whether they can efficiently utilize the resources they are given and successfully transform themselves in a new capital environment.

He who doesn’t delve into the history of a market is not a good investor

Back in the 1990s, the attention of the startup and investment world in Southeast Asia was largely focused on Singapore’s semiconductor industry. Until 2007, innovation had revolved around hardware. If you were to ask which was the most successful startup, people would say it was Creative Labs, which, if you remember, was a manufacturer of MP3 players before Apple. Founded in 1981, the company reached its heyday in the 1990s and started to go downhill before it delisted itself from NASDAQ in 2007.

The period between 2007 and 2011 saw early-stage investment bud in Southeast Asia. Stimulated by the subsidies offered by a series of Singaporean government-backed funds and FOF investment, a number of investment firms were launched and began looking for investment opportunities, but they operated more like incubators, accelerators or laboratories rather than VC firms. Some Japanese CVC firms showed interest in investing in the Southeast Asian market too, but the overall progress was slow. At this stage, it was search services, web portals and online forums that prevailed in the startup scene. Games are a category that stands by itself, which we may discuss separately in the future.

In 2011, the Southeast Asian startup and investment space began to see accelerated growth. Funds were still scarce, valuations low and cashing out was difficult. Local investors had limited confidence, but the market saw a largely steady pace of investment. Startups began to learn more about VC investors’ way of thinking, and VC firms became better at conducting due diligence in Southeast Asia. Meanwhile, some local consortia started to make CVC investments too, but most tended to turn themselves directly into controlling shareholders in angel rounds. Additionally, as the tourism industry flourished, the local investment circle was joined by what was then called “tourist angels”, who flew to Bali for vacation several times a month and, as a sideline activity, made investments and attended board meetings during their stay.

Between 2011 and 2013, a typical investment looked like this: a “$200,000 valuation + $50,000 investment” angle round, a “$500,000 valuation + $100,000 investment” seed round, a “$1 million valuation + $200,000 investment” pre-A round, a “$5 million valuation + $1 million investment” A round and a “$15 million valuation + $3 million investment” B round. Seed rounds were relatively easy, led often by government-backed funds, but there were few independent funds focusing on A or B rounds. As a result there were more projects raising A rounds than investors could satisfy, making them choosy and cautious about what to invest in. Startups, while continuing with their efforts to raise funds, had to find ways to boost revenue and cut costs in order to support payroll and survive. When it became impossible to move on along the current line of development, some startups gave up on their bigger goals and turned to operate more profitable business.

VCs were faced with similar challenges during this stage. FOFs were focused more on China, the U.S. and India. The few that showed interest in Southeast Asia backed away when they heard the funding strategy. Warned by past failures, VCs at this stage were always cautious and hesitant. They valued projects conservatively, placed particular emphasis on profitability, were especially wary of cash flow problems, and cashed in whenever it was possible. Cash flow problems are like a sword dangling above the heads of founders and VCs, constantly reminding them of how everything could go down the drain.

Beyond the investment sector, the infrastructure needed to bring about the boom of the consumer market was non-existent. Roads, internet speeds, payment channels, spending power and consumer habits were all hindrances to the growth of the market.

This background affected the entrepreneurs and investors of an entire generation. For investors, although there were plenty of projects to invest, they had to accept the fact that companies grew slowly, and for entrepreneurs, healthy average revenue per unit mattered more than download times and users. As a result, at a time when Chinese entrepreneurs were aggressively expanding their business presence, their Southeast Asian counterparts were cautious with every step they took. Chinese investors were hunting for “unicorns”, while investors in Southeast Asia were raising “buffaloes”. Unicorns are born different and shine everywhere they go, while buffaloes are hard-working and down-to-earth. They plough their fields and wait for the rain to fall.

Between 2013 and 2015, the entry of Rocket Internet brought about major change to the investment scene as well as the competitive landscape among Southeast Asian startups.

But before we talk about Rocket Internet, let’s take a look at the characteristics of the Southeast Asian market first.

For early-stage investors, the Southeast Asian market is rather complicated. To begin with, ASEAN is no match for the EU in terms of cultural integration as well as the integration of economic, political and security policies across member states. And a major change doesn’t seem likely in the foreseeable culture. The market there may seem large, but the region is in fact divided into independent communities with different religions, customs and laws. This has become a major obstacle keeping businesses from expanding across the region. The fact that spending power varies from country to country and even from city to city means that companies must constantly redefine their target markets, familiarise themselves with the local business environment and competitive landscape, and adjust their customer acquisition methods and management models.

A luxury resale platform that hit the jackpot in Singapore ended up choosing Hong Kong and Taiwan as its new battlegrounds after trying, in vain, to copy its success in other parts of Southeast Asia. An advertising slogan used in Thailand may be considered blasphemous in Indonesia. Programmers interpret the word “deadline” differently and salespeople use completely different methods to acquire customers. This means that startups doing business in Southeast Asia must approach each market separately. Most enterprises have therefore chosen to concentrate on a single market. And those that wish to expand across the region would start afresh and enlist the help of local companies in a new market.

After building a clone of eBay and successfully selling it back to the company in the 1990s, Rocket Internet turned itself into a clone factory, launching cloned startups in Europe, South America, Central Asia, Africa, India and China. In 2013, the company’s founders, along with a bunch of Wall Street elites who had never before been to Southeast Asia, brought their “rockets” to Singapore, Bangkok, Ho Chi Minh City and Bali. With innovative business models and enough money to throw, they were confident of securing a sweeping victory in the Southeast Asian market.

Rocket Internet made no bones about the intrusive nature of its strategies which proved useful at the initial stage. The rate at which it burned cash was unseen in the region, and the overwhelming ads and heavy discounts quickly attracted the attention of local consumers.

The company used only one indicator to assess its performance: GMV. It had no intention or time to care about return rates, customer satisfaction or unit economics. All it knew is that once its GMV fell below a certain level, it could be kicked out in no time. Lazada once saw its annual advertising budget exceed its GMV. This was tantamount to giving people money for what they bought instead of making money from the sales.

Rocket Internet incubated dozens of such projects in Southeast Asia. Yet except Lazada, which received investment from Alibaba when its capital was drying up, the others either closed down even before they announced their birth or reaped the bitter fruits of their reckless cash burn. On various online forums, people discussed ways to make money by taking advantage of the loopholes in the startups’ business models. For example, by selling pancakes to themselves on the food delivery platform Foodpanda, people could earn money from both the coupons offered to users and the subsidies granted to merchants. After burning $300 million, Foodpanda’s Southeast Asia business split into several divisions, which were then sold at low prices.

Rocket Internet educated the first generation of online consumers with generous purchase subsidies. As it turned out, the rockets flying across the sky brought the buffaloes their long-awaited rain. Local entrepreneurs were not unaffected by the disruption caused by Rocket Internet, but for those that had been diligently building their business, the damage was trivial. In fact, as the market picked up after some of the obstacles were removed by Rocket Internet, some local companies managed to upgrade themselves from buffaloes into tractors.

The years between 2013 and 2015 also saw China’s BAT (Baidu, Alibaba, and Tencent) enter the Southeast Asian market. In 2013, Alibaba brought AliExpress, an e-commerce platform, to Singapore and Malaysia. Baidu and JD.com marched into the Indonesian market the same year, expanding their business presence locally in their own ways. In 2014, Alibaba bought a stake in the Singapore-based logistics company SingPost, which marked the beginning of Chinese giants’ overseas expansion in Southeast Asia through investment. Tencent invested in the Southeast Asian game publisher Garena; Didi, after gaining a dominance in the Chinese market, invested in the local ride-hailing platform Grab and started a new cash burning race in Southeast Asia.

All these have fuelled the rise of independent VCs locally, which were starting to see healthy returns on investment. Alibaba’s investment in Lazada in 2016, a deal that made it the platform’s controlling shareholder, catapulted the latter onto the unicorn list. As it turned out, the impact the deal brought to the Southeast Asian investment and startup space far outweighed its economic return. With the listing of Garena (SEA) on the NASDAQ in 2017, startup projects in Southeast Asia were officially acknowledged by the global investment sector.

Investors should respect the market

We can expect to see an influx of capital into Southeast Asia in 2018, with Chinese investors playing a notable role. Fosun RZ Capital has chosen to get involved at this stage too, drawn by the market’s huge growth potential.

Investors and entrepreneurs new to the Southeast Asian market are prone to overestimate the size and growth potential of the market. We must remind ourselves that the local business environment continues to pose challenges to newcomers. You can’t expect the economic development and purchasing power of a region to take off overnight. It takes time. Just like you can’t drive an F1 car in a hilly terrain, a business model will not work unless it suits the market. Good founders are those who assiduously implement their business models while keeping their feet on the ground. The simplest principles always apply wherever you go.

Back to the wolfish qualities I mentioned at the beginning, most startup founders are marvellously adaptable, be them Chinese, American, Indian or Indonesian. Good entrepreneurs are always keen observers. They rest and bide their time when external conditions are tough, and are able to act quickly when opportunities abound. As things pick up, we will see fast change in the Southeast Asian market. Growth will accelerate; bolder moves will be made and bigger goals will be set. Only by then will we be able to tell wolves from sheep. Foreign and local entrepreneurs will have their respective strengths and weaknesses and should be evaluated individually. But one thing is certain: If you don’t respect the market, don’t expect the market to respect you.